A grim life as Golden State runs out of gold

In Houston, the 4th of July fireworks tomorrow night risk being a bit of a damp squib with the display's budget cut by half. In some other American towns, from New England to the Pacific Northwest, there will be no pyrotechnics at all. But the punters had better not complain: when it comes to public services much worse may be on the way. And nowhere does the picture look as bleak as in Arnold Schwarzenegger's California, where the Governor has been forced to declare a fiscal emergency.

For all the chatter in Washington about green shoots, at the level of individual states the economic outlook remains shockingly grim. California's decision to declare an emergency came as state legislators failed to pass measures to bridge an increasingly daunting gap between spending and revenues. The state treasurer was due yesterday to begin issuing IOUs to its creditors – including students waiting for their grant cheques.

The situation in California, with an economy bigger than those of many world nations, is indeed grave. State workers will be told to take a third unpaid day off a month and most state offices will now take three-day weekends. Without resorting to IOUs, the Golden State risked literally running out of money this month. The last time IOUs were issued by Sacramento, the state capital, was in 1992.

But it is not alone. According to a Washington think-tank, the Centre on Budget and Priority Policies, 48 of the 50 states "are facing shortfalls in their budgets for the upcoming year totalling $166bn or 24 per cent of state budgets". Meanwhile, as most states began their new financial year on Wednesday, seven are without any 2010 budget at all because legislator and governors have been unable to agree on where the worst of the pain should fall.

The consequences of this crisis threaten to be far-reaching, not least as it deadens the momentum nationally towards recovery. In this country, state coffers account for no less than 30 per cent of all public spending or 10 per cent of national GDP, much more than would be the case for comparable provinces or counties in Europe.

In California and Nevada income has dried up, in large part as a result of the collapse of the housing market. As house values have plummeted, so has the wealth of families and individuals who have stopped or crimped spending. Most state revenues are raised from income and sales taxes and also property taxes. New York's horrifying budget hole is the result of a suddenly ailing Wall Street community.

Making matters more complicated still are laws that have been passed over the last 20 years in most states that demand that legislators balance the budget – somehow – and, moreover, forbid them from borrowing money to survive lean times. The federal government can borrow; indeed, the federal deficit is ballooning alarmingly.

This means that states must raise taxes or cut services, both of which are anathema to politicians. Or, as in the case of California, create a faux currency, the IOUs. The outlook for the 2011 budget is barely better. Some salvation will come from Barack Obama's $787bn fiscal stimulus programme, but that cash is filtering down only slowly.

While there is something egalitarian in the disappointment of dimmed fireworks, many other cuts in services have a disproportionate impact on lower-income families. The welfare net necessarily gets more ragged. Medical, rehabilitative and home care services for the poor, the elderly or people with disabilities are among the first to be hit, for instance. And as parents are now discovering, summer-schooling is also an easy first target for cuts.

In some counties of Florida, there will be no summer-schooling at all this year, a blow for working parents. Nearly every school district in the Sunshine State has either eliminated or severely curtailed summer school. Summer schooling is suffering similar cuts in states like Delaware, North Carolina and California.

So far 39 states have taken steps to cut services somewhere. Put together, public services were being slashed last year at a pace of 4.3 per cent, faster than at any time since 1983. At the same time, half of the states have already moved to raise taxes somehow this year while another 12 are considering taking such a step.

Meanwhile, several states that find themselves starting July without a new budget are struggling to find stop-gap means of keeping going. In Pennsylvania, Governor Ed Rendell announced that local banks will make interest-free loans to state workers who are not getting paid. Ohio this week passed an emergency bill to authorise state spending just for the coming week. Other states bereft of proper budgets include Arizona, Connecticut and Illinois.

States of disarray: How the deficits are growing

California

Sacramento is battling the steepest drop in revenues from personal income tax since the Great Depression as unemployment surpasses 11 per cent. It is a spiral triggered by the housing crisis that robbed consumers of the confidence and wherewithal to spend, which similarly robbed state coffers of sales taxes.

Total annual budget: $93bn

Projected 2010 deficit: 58 per cent

New York

No state is more sensitive to the crisis in the financial sector than New York. The firms on Wall Street traditionally account for one-fifth of all the state receipts thanks to taxes on huge bonuses usually paid to the financiers as well as on income. New York has some of the highest tax levels in the country – and big earners are fleeing.

Total annual budget: $56bn

Projected 2010 deficit: 32 per cent

Nevada

Slumping income and property tax receipts have opened a huge hole in the state budget. Federal fiscal stimulus money totalling $300m helped plug some of it. But Nevada is seen by some as a one-industry state – call it tourism or, if you like, gambling. And the Strip in Las Vegas is eerily empty these days.

Total annual budget: $4.7bn

Projected 2010 deficit: 38 per cent